I
have great pleasure in adding my words of welcome to Mr Percy Mistry,
who chaired the High Powered Committee, which has recently submitted
its Report on developing an International Financial Centre in Mumbai.
This is an important Report, marking a definitive step in the
ongoing process of liberalisation of our financial sector and, thus
could be regarded as a logical sequel to the earlier Reports on the
Financial System and Banking Sector Reforms as well as on Capital
Account Convertibility.

The
backdrop to a study of the issue is the phenomenon of globalisation
of financial markets and the growing degree of integration between
various national financial markets. The dichotomy between savings
and investment, which is the hallmark of financial intermediation,
has now spread across national frontiers. We have a situation where
the saver is in one country, the investor in another and the
transaction is mediated in a financial centre in a third country.
The growing interdependence among various financial markets has led
to the emergence of what in effect is an international financial
market. Globalisation has proceeded apace with a remarkable growth
of new service products. Financial innovation has been made possible
by the increasing trend towards deregulation of domestic financial
markets, removal of controls on cross border capital flows and
increasing competition in the international financial markets, with
new opportunities to fashion distinctive customised services and
create innovative financial products in response to emerging needs.
Financial engineering is the name of this game. While the freeing of
control over capital movements has provided the basis for
international capital flows mediated through financial centres, the
remarkable developments in the area of information technology and
instantaneous electronic funds transfer has led to an exponential
growth in the volume and sophistication of financial services.

These
developments have now extended to India in the context of the
increasing outward looking orientation of our policies. Financial
autarky is no longer an option. It is only appropriate that our
markets are involving themselves more closely with international
financial market transactions. Indian entities are now participating
in the international financial markets by seeking access through the
debt and equity routes to international finance. Simultaneously,
international financial institutions are getting more involved with
India. We are familiar with the increasing importance of foreign
institutional investors in our capital markets. Private equity firms
are also showing interest in moving funds to this country. Hedge
funds are not too far behind. With the progressive upgrading of our
credit ratings, which hopefully would continue, we could only expect
more of such activity. India is increasingly being seen as an area
where people could invest and make money.

Our
access to and participation in international finance has been through
traditional markets like New York, London and Tokyo and now Singapore
and even Mauritius. It is appropriate that we consider the question
whether we should not develop an international financial market in
this country, to be more precise, in Mumbai. Many years – almost
two decades ago, I had argued the case for such a development and
suggested, as a first step, the need to develop Mumbai as an offshore
banking centre, but for reasons best known to them, the authorities
were not receptive to the idea. I presume this had something to do
with the apprehension that the then existing offshore centres abroad
were seen rightly or wrongly as encouraging tax evasion and money
laundering. An offshore centre in Bombay could have provided us with
greater exposure to international finance and created a pool of
professionals to operate in international finance apart from being a
lucrative source of invisible export earnings. An international
financial centre is, of course, much wider in scope than an offshore
banking centre, and in considering the need and opportunities for
such a centre, we need to ask ourselves whether we have the right eco
system for its development in the form of software, more particularly
skills and the hardware of adequate civic and other infrastructure
and efficient state of the art communications network, which would
permit real time information on which to act. The recent growth of
our IT sector offers opportunities in this area.

One
of the important aspects of, what I call the eco-system for
developing such an international financial centre, is the pursuit of
sound macro economic policies designed to encourage growth with
reasonable price stability. We have, in the last few years, a
reasonable record in this area though we have still some way to go in
the direction of fiscal consolidation and to an eventual elimination
of the fiscal deficit, perhaps going beyond the requirements of the
FRBM legislation and which would help to reduce the heavy burden of
public debt. Our monetary and exchange rate policies also are not
aggressive and have followed the dictum of keeping the ship ‘steady
as she goes’. Interest rates have been deregulated and are now
market determined. Exchange rate policy has also been quite flexible
and, given the limited extent of capital account convertibility, we
have not so far had to face the problem of the so-called ‘impossible
trinity’. We are also moving in measured step towards fuller
capital account convertibility.

An
equally important foundation for development of an international
financial centre is to have a strong internal financial system and a
sound, credible and transparent regulatory framework governing its
operations. Since the two Reports on Financial System and Banking
Sector Reforms, and the Report of the Advisory Group on Transparency
in Monetary and Financial Policies and the Tarapore Committee
Reports, we have moved a considerable distance in terms of
strengthening our financial system through the prescription of sound
prudential norms, internationally accepted accounting practices with
regard to income recognition and other aspects of accounting and
prudential provisioning norms and stipulation of capital adequacy
criteria, the last named assuming more importance now so as to ensure
compliance with Basel 2 requirements. The pre-emption of banking
resources for the public sector has also been severely curtailed. We
have also lifted the heavy hand of intrusive regulatory intervention
in the operation of financial institutions, almost to the point of
micro managing them.

While
this is commendable, I am afraid we have not made enough progress in
the direction of divestment of Government holding in public sector
banks and financial institutions. I sometimes also am concerned at
the tendency of our regulators to cast a nostalgic look to the
earlier regime and reverting towards directing credit and advising on
sectoral interest rates. Our regulatory framework also is reasonably
in place, but I sometimes wonder that while the recommendation of the
Committee on Financial Sector for a separate body for financial
supervision has been accepted, why the function still remains a part
of the Reserve Bank. We also have separate regulatory authorities
governing capital markets in SEBI, IRDA for insurance and, perhaps in
the near future a Pension Regulatory Authority for pensions. The
need for coordination between these various regulatory bodies is
obvious. Sometimes the point has been made as to whether we should
not have a unified regulatory authority like the Financial Services
Authority of the UK. I personally believe we need not have such a
monolithic institution but to ensure adequate coordinated regulation,
we could perhaps consider setting up of an independent Statutory
Commission on Financial Regulation, the members of which could be the
Governor of Reserve Bank, Chairman of SEBI and the heads of the
Insurance and Pension Regulatory Authorities.

A
recent welcome development is the decision to take the public debt
management function out of the Reserve Bank and set up an independent
institution under the Finance Ministry to avoid the possibility of
conflict of interest between the Reserve Bank’s monetary function
and its debt management function. This is in line with the
recommendation of the Advisory Group on Transparency. We thus have
still some distance to come in terms of macro economic stability and
reforming the regulatory system and moving towards fuller
liberalisation of the financial sector. We also have still some way
to go in developing efficient and competitive markets in certain
aspects of financial development such as those dealing with currency
trades and derivatives, but I have reason to hope that this will come
eventually. We have another major advantage of having the Rule of
Law and a legal system, which provides for protection of contractual
rights.

A
fully liberalised financial system is a sine qua non for the
establishment of an IFC. An internationalised and fully liberalised
financial system could provide the basis for setting up an
international financial centre which could provide investment and
merchant banking and other financial services and serve the capital
market not only for the rapidly growing requirements of Indian
enterprises and for foreign enterprises wishing to do business in
India, but serve also as a financial entrepot for the region.

Another
important aspect of what I call the eco system is the availability of
the requisite professional skills. International finance is a highly
skill intensive vocation but, I believe, we have apart from the
familiarity with the English language, the necessary skills, domain
knowledge and expertise and supporting professional ability on a less
expensive basis than other financial centres, to make a beginning in
this area and develop it further. One has only to look around and
see the number of Indians in positions of responsibility in the
international financial system in various parts of the world to give
hope that we do have the professional nucleus to develop this
expertise further.

International
financial markets are global and are 24 hour long. They are also
tripolar, with New York, London and Tokyo being the poles each in
distinctive time zones. We in India have a time zone advantage of
immense potential as our markets would be open for business during
the later part of daily operations of Tokyo and the early hours of
trading in London. The participation of Indian entities at present in
international financial market is an expensive proposition for them
in terms of payment for valuable services rendered. These payments
could be retained in India if we develop an international financial
centre here. It could also generate fee and other income from
business from other countries in the region. The advantages of an
Indian IFC for expanding our invisible exchange earning are thus
obvious. The example of the City of London, which is a prime source
of invisible export income in support of the UK’s balance of
payment, is too well known to require repetition. Another advantage
flowing from having an international financial centre in India is the
help it could provide for our foreign trade especially exports and
augment investment flows into and increasingly out of India by
assisting Indian corporates as they expand their horizons outside
India through mergers, acquisitions and direct investment. If
developed on the right lines, it could be a win-win situation.

Victor
Hugo once said that “no power on earth can stop an idea whose time
has come”. The idea of an international financial centre in India
is, I believe, one whose time has come.